Kick in the Nuts: Postmarket Update 9/1/09

For only the second time in SEVEN WEEKS the dip buyers got kicked in the nuts today.  Bulls couldn’t hold the declining 5 day moving average in the SPY and we rolled over hard after topping out at 10:10 this morning.  A lot of interesting stuff happened today, so we’ll take it one at a time.

I don’t believe today’s 2%+ drop means that the bears are back and will press hard here.  I don’t think anyone is doing much of anything as a matter of fact.  I see a few big bearish options positions being taken on real estate IYR and the Chinese index FXI, but besides that, there isn’t anything getting hammered here.  In my list of over 2500 stocks which trade above 3$, have a market cap above 300 million, and an average volume of over 100K, I saw only 55 new 50 day lows today versus 50 day highs counting 150.  What does this tell me?  It says that although the pullback today was significant, by no means are we experiencing a large turn in breadth.  Can we pull back 5%, yes, faster than you can grab a 20 sitting on the sidewalk.  But I see larger levels of support in many stocks which will take time to test and break, I don’t believe we will experience a vicious elevator without breaks move here.

Next up, we are seeing a breakdown of the negative correlation between dollar + treasuries versus equities and commodities.  Traders love to play correlations, it makes life so much easier when you have a playbook you can go back to and run over and over.  When a certain correlation (play) works over and over, traders will run it until it doesn’t work anymore, it’s that simple.  Last summer towards the top of the market, SPY would move down during the day as CL_F moved up.  At 2:30 when crude closed, the bulls attempted to buy the market knowing that crude wasn’t going to make a larger move upward that day.  Traders saw that there was demand destruction in the US economy going on with crude over 100 dollars.  That correlation worked until the Chinese put the halt on appreciation of the Yuan.

When this happened we began to see a negative coralation between the dollar and crude, the dollar ran up and crude went straight down and vice verse.  That play has been good since last summer for the most part.

Another interesting correlation we saw was the normal down dollar up gold trade.  But during the Lehman crisis last fall something interesting happened.  In the face of what looked to be a massive deflationary spiral, gold and the dollar rallied!  The correlation broke down and we saw gold buying for fear of the complete dislocation in almost every other market, including crude oil.  Lately, we have gone back to the normal gold dollar correlation, but something is changing.

I am seeing interesting signs of the treasuries + dollar versus equities and commodities correlation breaking down.  The 20 years bond ETF TLT is on the verge of breaking out and so is gold, all the while the market made new yearly highs last week.  This is giving me the feeling that some big players are starting to turn some equity gains into GLD and TLT safety.  But what does this mean for the dollar?  Can we have a dollar and gold rally again while equities pull back to who knows where?  And what of crude, is the energy complex going to follow gold or the equity market?  This type of action is not abnormal.  We have gone through a period of hyper correlation across many markets over the past two + years, this may finlay be breaking down.

On a fundamental basis, in my mind crude is overvalued and so is the equity market.  I still believe that we are in a deflationary environment, but if the fed keeps pumping unlimited amounts of money into the system, gold is undervalued along with other metals long term.

So get ready for some volatility as traders search for new coralations to trade off of.  Trade what you see, not what you feel.

We were taken out of the AA positon today as it crossed below the 20 day donchian channel.  I was looking for a massive breakout here with a lot of clean air above 14.  I also put on one short today in YHOO.  I can see a huge failure here as I see YHOO being one of the first tech stocks to get really slaughtered if we pull back hard.  Everything looks bad for them here, but i’ll keep an open mind as always.

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